Enron shadow over bonds market

THE possibility of shady accounting practices and ongoing credit deterioration at some of the top companies in Britain and the US is wreaking havoc among investment grade corporate bonds.

Indeed, firms such as WorldCom, Tyco International - one of the world's top makers of fire and safety systems - and leading consumer appliances maker General Electric have fallen foul of these concerns.

The catalyst for the sell-off has been US energy firm Enron, whose controversial collapse encouraged investors to re-examine the financial structure of other high-quality issuers amid concern the complexity of corporate balance sheets is masking significant risk exposure.

Tyco's euro-denominated yield spreads have widened by around 250 basis points in recent days, while its equity is down 46% this year. Telecoms firms have been particularly badly hit - the sterling debt of WorldCom has widened around 80 basis points this week, while France Telecom and mmO2 spreads are also under pressure. Even triple A rated General Electric has not escaped. Its bonds have lost ground as the Enron fallout reaches across global credit markets.

Only last month, corporate bonds were being lauded as the asset class of choice for this year, with investors expecting strong returns from this sector as the US economy rebounded following the Federal Reserve's aggressive rate cuts and as equities continued to recover.

Now the outlook is cloudier as unexpected risks emerge from the debacle, encouraging investors to sell first and ask questions later. Prices in the European high yield, or junk bond, market have slid nearly 4% so far this year after a 17.9% drop in 2001 and a 15% fall in 2000.

Those faring worst are again in the telecoms and cable sectors. Indeed, cable TV operator NTL has initiated a financial restructuring following the collapse of its debt and equity.

Although there is still confidence the market will recover, once the first wave of panic selling abates and investors turn more selective about where the risks lie, the demise of Enron and ensuing worries over other issuers is undoubtedly a setback.

And those hoping for a speedy reversal of sentiment may end up disappointed as balance sheet worries are likely to take time to work their way through the system, given the regulatory and political dimension to what is happening.

Of course, if the much touted US economic rebound turns out to be less spectacular than hoped for, the outlook for corporate debt is likely to darken further.

Richard Morrissey is publisher of CreditCurve.com